FX: Banks with High Oil, Gas Loans to Face Challenges – Sanni, Emerging Africa Capital Group CEO
Banks that have large exposure to the oil and gas industry may face specific challenges due to the decision to float the naira, Toyin Sanni, Founder and Chief Executive of the Emerging Africa Group, a Financial Services Group said in a chat with MarketForces Africa.
With the bullish performance in the oil market following covid-19 recovery, a large number of Nigerian banks were noted to step up their lending to the Oil and Gas sector.
Some oil and gas finance-thirsty banks recorded a steep exposure to the sector, knowingfully well the minds and foreign exchange policy stance of the suspended Central Bank governor, Godwin Emefiele. Surprising, a reformist comes and, in a sweep, the narrative changes.
The unexpected flotation of Nigeria’s naira spooked the exchange rates across markets, and Broadstreet analysts have started to adjust their respective estimates to accommodate the change immediately.
Fitch Ratings report showed that top Nigerian banks’ exposure to the volatile sector has increased, though tier-2 lenders also record large exposure which analysts said is manageable given the size of their respective balance sheet.
In a discussion with MarketForces Africa about the naira float, Sanni said the devaluation of the naira can have mixed implications for the oil and gas sector.
On one hand, it can increase the naira value of revenues for oil and gas companies, benefiting them, she added, saying it can also lead to higher production costs.
Sanni explained that oil and gas companies could see an increased cost of importing equipment, which can adversely affect their profitability and cash flow.
The combined effect of these factors can impact the ability of oil and gas companies to service their debts to banks, the Chief Executive of the Emerging Africa Group told MarketForces Africa.
“Banks with significant exposure to the oil and gas industry may experience an increase in non-performing loans and credit risk where these companies have high foreign exchange denominated debt.
“A decline in the financial health of these companies, despite the potential revenue gains, can lead to delayed or defaulted loan repayments, putting pressure on the banks’ earnings”, Sanni told MarketForces Africa.
Emphatically, she advised that it is crucial for these banks to closely monitor the performance of their oil and gas portfolios, taking into account both the increased revenue potential and the impact of higher production costs, and take proactive measures to manage credit risks effectively.
The emerging Africa financial service group chief said the decision to float the naira can have effects on banks with Eurobond exposure, both in terms of banks that have issued Eurobonds and those that have invested in Eurobonds issued by other corporate and sovereign entities.
“For banks that have issued Eurobonds, a devalued naira can increase the burden of servicing the debt denominated in foreign currency. As the exchange rate changes, the cost of repaying the Eurobond in local currency terms can rise. This can impact the banks’ profitability and financial performance, as they may need to allocate more resources to service the debt.
“On the other hand, banks that have invested in Eurobonds issued by other entities may face challenges as well. A devalued naira can lead to a reduction in the value of these investments in local currency terms. This can result in valuation losses for the banks and negatively impact their financial statements”.
Also, other non-financial companies that have borrowed foreign currency loans are expected to feel the impact. Sanni said as the naira depreciates, it becomes more expensive for these companies to repay their loans denominated in foreign currency.
According to her, the devaluation increases the debt service costs in local currency terms, potentially straining the financial health of these borrowing companies.
However, she said the impact on banks providing foreign currency loans will depend on the quality of their loan portfolios and risk management practices.
“Banks with significant exposure to borrowers with foreign currency loans may face an increase in loan delinquencies and credit risks. They need to closely monitor the repayment capacity of these borrowers and consider appropriate measures to manage the potential risks”.
In her chat with MarketForces Africa, Sanni established there is a connection between a devalued naira and banks’ capital.
“When the naira depreciates, banks with significant foreign currency liabilities may suffer valuation losses, while those with higher foreign currency assets may enjoy revaluation gains. The impact on banks’ capital adequacy ratio depends on the overall composition of their foreign currency assets and liabilities”.
The Emerging Africa financial services group said, “If the devaluation leads to a substantial decline in banks’ capital in dollar terms, it could affect their lending capacity and overall financial stability.
“Banks may need to adjust their capital positions by raising additional capital or implementing measures to strengthen their capital base in order to meet regulatory requirements and ensure they have sufficient buffers to withstand potential losses.
“It is important for banks to assess the quality of their loan portfolios, particularly those impacted by ballooning forex borrowings and servicing obligations, to mitigate potential risks and maintain their financial strength”.
She said the devalued naira and its impact on banks’ capital may prompt regulatory authorities to consider capital adequacy requirements and potentially ask banks to upgrade their capital. If the devaluation results in a significant erosion of banks’ capital in dollar terms, there is a possibility of banks being required to recapitalize to maintain regulatory compliance and ensure the stability of the banking sector.
“Recapitalization may involve injecting additional capital into the banks or implementing measures to improve their capital positions. Regulatory authorities will closely assess the capital adequacy ratios of banks and take appropriate actions to safeguard the stability of the banking system.
“The overall impact on banks’ balance sheets will depend on various factors, including the extent of their exposure to foreign currency assets and liabilities, the quality of their loan portfolios, and their risk management practices. A devalued naira can lead to an increase in non-performing loans, higher credit risk, and potential valuation losses on foreign currency assets.
“These factors can negatively impact banks’ profitability, capital adequacy, and overall financial performance. However, banks with effective risk management strategies, diversified portfolios, and strong capital buffers may be better positioned to navigate the challenges associated with the floating exchange rate regime. They should proactively assess their asset quality, reassess risk models, and adjust their strategies to mitigate potential risks and optimize their balance sheet management”, Sanni told MarketForces Africa. #FX: Banks with High Oil, Gas Loans to Face Challenges – Sanni, Emerging Africa Capital Group CEO#